Is RingCentral Stock a Buy?

Communication technology stock RingCentral (NYSE:RNG) has had a most volatile ride over the last two years. After rocketing to over $400 per share in 2021, the stock began a sharp decline that has seen it fall to less than 10 percent of its record high. This price rollercoaster has left some investors wondering whether RingCentral could have become oversold. 

 

RingCentral provides a variety of communication and collaboration software services. The company offers unified communications that include video calling and cloud telephone services.

 

RingCentral also offers contact center services. Together, the company’s portfolio allows it to meet a wide range of modern business communication needs. RingCentral currently serves customers in over 100 countries.

In Q3, RingCentral reported revenues of $509 million, up 23 percent from the previous year. Recurring subscription revenue, meanwhile, jumped 25 percent. In Q4, management projects slower revenue growth of 19 to 21 percent year-over-year. For the full year, revenue growth is expected to total a respectable 27 to 28 percent.

 

RingCentral’s EPS for Q3 was $-0.57 per share, underperforming analyst expectations. The company is, however, expected to see its losses shrink over the next 12 months. Compared to $1.23 over the last year, analysts expect RingCentral to lose just $0.47 in the next year.

 

Operating margin also presented a significant challenge for RingCentral. Last year, the company’s Q3 GAAP operating margin was -20.1 percent. In 2022, that number fell even further to -35.9 percent. This has been a perennial problem for RingCentral, but margins have plummeted into much more deeply negative territory since 2020.

 

A final critical takeaway from the most recent earnings report is a new plan unveiled by management to reduce operating expenses. This plan includes reducing the company’s full-time employee base by 10 percent. While there will be costs associated with the plan, a reduction in staffing expenses could help RingCentral bring its losses under control.

 

Analysts foresee a considerable upside for RingCentral over the coming 12 months. The RNG target price based on a discounted cash flow forecast analysis $50, 40 percent higher than the most recent price of $35.71. In part, this high perceived upside has led 21 of the 30 covering analysts for the stock to rate RingCentral as a buy.

 

RingCentral is trading at a roughly fair value in today’s market. The stock is priced at about 18.5 times expected earnings and 1.8 times sales.

 

One rather prominent positive in RingCentral’s valuation, though, is its price-to-earnings-growth ratio of 0.60. Ordinarily, this metric would suggest that the stock was slightly undervalued, especially in light of an expected 5-year growth rate of 35 percent.

 

Debt, however, looms over RingCentral’s otherwise reasonable value proposition. The company’s debt-to-equity ratio is 33.5, introducing significant concerns about RingCentral’s ability to meet its obligations.

 

Such a high debt load is concerning from a value perspective, especially if interest rates continue to rise going into 2023. Long-term debt has been creeping upward over the past year, suggesting that RingCentral may still not be done adding to its debt load.

 

As of Q3 reporting, the company’s total liabilities stood at $2.361 billion, compared to a cash and cash equivalents reserve of just $305.4 million.

 

Debt and low margins represent significant risks to RingCentral’s future. Beyond these problems, the company could also be pressured by an economic downturn next year.

 

RingCentral primarily serves business clients, meaning that it is dependent on business spending to drive growth. If businesses are forced to cut back on investment by macroeconomic conditions, the company could have a difficult time attracting new customers.

 

RingCentral’s ongoing program of share repurchases also introduces questions regarding managerial priorities. Although share buybacks are generally quite positive for investors, they can be red flags for companies that are losing money and struggling with debt.

 

RingCentral repurchased $20 million of its own stock in Q3, with another $55 million in buybacks on the way. Given the company’s challenges, it’s difficult to argue that buybacks are the best use of its cash stockpile at the moment.

 

A final consideration is the fact that RingCentral is competing directly with major tech companies. Google and Microsoft are both among its competitors for collaboration solutions. Without a serious competitive advantage, RingCentral may have a hard time maintaining its current rate of revenue growth.

 

RingCentral has several factors working in its favor. The company’s revenue growth is expected to continue running high, and losses will likely shrink next year. RingCentral’s plan to reduce its workforce could also help to improve margins and begin to put the company back on the right track financially.

 

The company trades at a fair to slightly low price, given its revenue growth potential. While not a stellar value, RingCentral is far from overpriced.

 

Value investors, though, will likely be driven away from this stock by its hefty debt obligations. The main appeal of RingCentral is to growth investors who might see its high growth rate and low price as potentially attractive.

 

However, the cons in the case of RingCentral seem to outweigh the pros. Debt and deeply negative operating margins, in particular, call the stock’s future into question. Unless RingCentral can make considerable improvements in these areas, it’s difficult to see the stock mounting a serious recovery.

 

RingCentral’s sensitivity to a potential downturn next year could also cause investors who buy today to incur additional losses. Even if the stock does recover in 2023, there’s a decent chance that the recovery will follow a period of heightened volatility.

 

Given the challenges RingCentral is facing, there’s also no guarantee that the damage done by a recession would be transient. For instance, such an event could force RingCentral to continue racking up debt, deepening an already considerable problem for the company.

 

At the end of the day, RingCentral is a company with serious growth potential that has too many drawbacks to recommend as a buy. Investors may, however, want to keep an eye on the stock to watch for better earnings or higher margins in the future.

 

After selling off by more than 80 percent this year, RingCentral could have a long runway if it does begin to recover. As such, it may be worthwhile to watch the company for more concrete signs of improvement. For now, the stock’s risks are likely too significant, even though it does have a great deal of upside potential.

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